Could Goldman Short Facebook?

The private market valuation of Facebook recently took a hit when a group of investors looking to sell a large number of shares had to reduce their asking price. The implied valuation from the sale went from $90 billion to $70 billion.

This raises an important question: can you short Facebook?

Facebook shares do not trade on public markets. To buy or sell shares of Facebook, you have to be qualify as an “accredited investor” and trade through a specialised platform for equity in non-public companies. Most of the buying or selling of Facebook shares takes place on SecondMarket.

As far as I can tell, it’s not possible to short Facebook shares on SecondMarket. To sell shares, you have to prove you have them—so naked shorting is out. And there’s no facility for borrowing shares—a crucial step in a short sale.

This means that most investors have no way to bet against Facebook’s astronomical valuations. What’s more, it means that the only people who influence the pricing on Facebook’s valuation are venture capitalists, early Facebook employees with stock grants, and people who want to bid on shares. That’s a recipe for a bullish bias on the shares.

But there is one company that probably can short Facebook—Goldman Sachs.

You’ll recall that earlier this year Goldman invested around $450 million in Facebook. A Goldman run hedge fund that trades client funds reportedly was responsible for $75 million of that amount.

At the same time, Goldman created a specialised, “single-serving” fund to allow clients to invest in Facebook. Reportedly, the fund will have the right to invest up to $1.5 billion in Facebook.

The existence of these two client funds may allow Goldman not only to zero out its exposure to Facebook—they could allow Goldman to short it. The zeroing out part is easy. Goldman just sells all of its own shares to the hedge fund or the single-serving fund.

But it could go further by selling either of those funds a right to acquire shares that it does not yet own—essentially an options contract between Goldman and the funds it runs for clients.

If Goldman combined these two steps—selling all of its shares and selling rights to shares—it would wind up with a short position on Facebook. Essentially, it would be betting that it could acquire shares more cheaply in the future than when it sold the options.

Would this be legal? It’s not entirely clear. Legal experts I spoke to say that the law is very under-developed in this area.

Goldman very likely won’t start shorting Facebook any time soon. But it may decide to reduce its overall exposure to Facebook for prudential, hedging reasons—something it has explicitly warned investors it has the right to do.